Empowering Financial Inclusion: AP High Court’s Landmark Verdict on Chit Fund Interest Under GST, in Harmony with Kerala’s Progressive Stance
Chit funds have long served as community-based savings and credit mechanisms, especially for households and small businesses excluded from formal finance. They operate on a mutual model where subscribers contribute fixed instalments, periodically bid for the prized amount, and share the auction discount as dividend, with the foreman merely administering the scheme for a capped commission. Against this backdrop, attempts to levy GST on interest or penal charges recovered for delayed instalments threatened to increase costs for subscribers and undermine the viability of chit operators.
Two recent High Court decisions— M/s Usha Bala Chits Private Limited v. Commissioner of State Tax (Andhra Pradesh High Court, W.P. No. 14745 of 2021, judgment dated 10.12.2025) and Kerala State Financial Enterprises Ltd. v. Union of India (Kerala High Court, W.P.(C) No. 24620 of 2022, judgment dated 04.09.2024)—have now brought much-needed clarity. Both courts, using the internal structure of the Chit Funds Act, 1982 and the exemption entry for interest under GST, have held that interest on delayed instalments is compensatory, linked to a debtor–creditor relationship, and therefore not liable to GST. The only taxable element remains the foreman’s commission for managing the chit.
Chit Funds Under the Chit Funds Act, 1982
Under Section 2(b) of the Chit Funds Act, 1982, a chit is a transaction where a foreman brings together a group of subscribers who agree to pay periodical instalments of a specified sum, with each instalment cycle culminating in one subscriber receiving the prized amount determined by auction, lot, or tender. The prized amount represents the gross chit value less the foreman’s commission and the discount offered in the auction, ensuring that the economic essence is mutual financing among subscribers rather than a unilateral loan by the foreman. The foreman’s role is primarily administrative: conducting auctions, maintaining records, and ensuring compliance with statutory safeguards.
Section 21 of the Chit Funds Act is central to the financial segregation that both High Courts rely upon. Section 21(1)(b) authorises the foreman to collect a fixed commission or remuneration, subject to a statutory cap of 7% of the chit amount in many state rules, as consideration for managing the chit. Section 21(1)(c) separately empowers the foreman to recover interest in case of default by any subscriber, at the rate specified in the chit agreement. This interest—often up to 18% p.a. as permitted in practice and recognized by rules and agreements—is not an additional fee for service, but a mechanism to compensate the pool (and, indirectly, the subscribers) for delay in repayment of the prized amount.
State rules further reinforce this protective structure. Section 6 of the Chit Funds Act, read with Rule 13 of the Andhra Pradesh Chit Funds Rules, 2008, limits the maximum discount that can be offered by bidders: typically up to 25% of the chit value in the first instalment and 40% in subsequent instalments. These caps prevent predatory bidding and ensure that the discount, which is redistributed as dividend to non-prized subscribers, remains within reasonable bounds. The foreman’s earnings remain confined to the commission under Section 21(1)(b), while delay interest under Section 21(1)(c) is purely an incident of late repayment of a pre-existing liability.
GST Exemption for Interest and Its Relevance to Chits
The GST regime separately recognises “interest” as consideration for the use of money or forbearance in respect of money due, and grants a specific exemption to such consideration when it arises from loans, deposits, or advances. Entry 27 of Notification No. 12/2017–Central Tax (Rate) dated 28.06.2017 exempts services “by way of extending deposits, loans or advances insofar as the consideration is represented by way of interest or discount (other than interest involved in credit card services).” This entry is conceptually rooted in the idea that GST is a tax on supplies of goods and services, not on the time value of money inherent in a pure debt relationship.
In the chit fund context, once a subscriber becomes a prized subscriber and receives the net prized amount, a liability arises to repay future instalments. Any delay in paying these instalments converts the situation into a classic debtor–creditor scenario: the subscriber owes money, and the interest compensates for delayed use of that money. Both the Andhra Pradesh and Kerala High Courts therefore treat delay interest as falling squarely within Entry 27—being consideration in the nature of interest for a deferment of payment—rather than as a component of consideration for the foreman’s taxable service.
AP High Court in Usha Bala Chits: Core Reasoning
In M/s Usha Bala Chits Private Limited v. Commissioner of State Tax, an Eluru-based chit company challenged orders that had levied 12% GST on interest/penal interest collected from defaulting subscribers, classifying it under Heading 9971 as part of “chit fund services.” The authorities had effectively bundled all monetary inflows—commission, subscription, and penal interest—into a composite taxable supply of financial services by the foreman, treating the interest as consideration for “tolerating an act” or for providing a continuing facility.
The Andhra Pradesh High Court systematically dismantled this approach by returning to the statutory design of the Chit Funds Act. It held that Section 21(1)(b) clearly demarcates the foreman’s taxable remuneration: the commission for conducting and managing the chit. In contrast, Section 21(1)(c) permits collection of interest only where there is default in paying amounts already due under the chit, i.e., after a liability has arisen. This interest is therefore compensatory and linked to delayed payment of an existing debt, and not to the provision of any additional service by the foreman.
The Court drew support from the Supreme Court’s decision in Oriental Kuries Ltd. v. Lissa, which had emphasised that chit transactions represent a mutual finance mechanism among subscribers, with the foreman as a facilitator. It also invoked the principle from Pratibha Processors v. Union of India that interest is compensatory, intended to make good the loss caused by delayed payment, and does not constitute consideration for an independent taxable activity. By aligning these principles with Entry 27 of Notification 12/2017, the Court concluded that delay interest on chit instalments is outside the GST net, while GST remains payable only on the foreman’s commission under the appropriate service heading.
Kerala High Court in KSFE: Aligning on Debtor–Creditor Character
In Kerala State Financial Enterprises Ltd. v. Union of India, the issue arose in the context of a sizable GST demand—around ₹61.55 crore—on interest at 18% per annum collected for delayed chit instalments. The Department contended that this interest formed part of the overall consideration for a composite chit service, or alternatively, that it represented consideration for tolerating an act, both of which would attract GST under the service heading for financial and related services.
The Kerala High Court resisted this characterization by first clarifying the nature of a chit fund transaction: the foreman organises the scheme, subscribers contribute regular instalments, and the prized amount is an advance drawn from the common pool, repayable over time. Once a subscriber wins the chit and defaults in paying subsequent instalments, the relationship vis-à-vis the defaulted amount becomes one of debtor and creditor. Any interest charged is, therefore, directly tied to the deferment of a monetary obligation, and not to an incremental service rendered by the foreman.
Here too, the Court leaned on the principle articulated in Pratibha Processors that interest is compensatory and not a stand-alone taxable service. It concluded that when a chit operator charges interest strictly in line with Section 21(1)(c) of the Chit Funds Act and the terms of the chit agreement, such interest falls within the protection of the GST exemption for interest on loans, deposits, and advances. On this basis, the Kerala High Court quashed the GST demand, while leaving undisturbed the liability on foreman commission as a taxable service.
Shared Legal Threads Between AP and Kerala Judgments
Taken together, the Andhra Pradesh and Kerala decisions articulate a coherent doctrine rooted in two parallel statutes: the Chit Funds Act, 1982, and the CGST framework. The shared threads include:
- A clear statutory bifurcation between:
- Foreman commission under Section 21(1)(b) (taxable service consideration), and
- Interest under Section 21(1)(c) (compensatory for delayed repayment of an existing obligation).
- Recognition that chit prizes are advances from a subscriber pool, so that defaulting subscribers stand in a debtor–creditor relationship to the pool (and, operationally, to the foreman as its representative).
- Application of the GST exemption for interest on loans, deposits, and advances to delay interest on chit instalments, because such interest represents the time value of money rather than payment for a separable service.
- Reliance on Supreme Court jurisprudence that conceptualises interest as compensatory (not a taxable quid pro quo) and chit arrangements as mutual finance schemes, not ordinary fee-based financial products.
This harmonised judicial view prevents authorities from “bundling” all cash flows into a single taxable composite supply. Instead, it mandates a transaction-wise dissection consistent with both the Chit Funds Act and the GST notifications.
Practical and Policy Implications for Chit Funds
For chit fund foremen and advisors, these rulings translate into a clear compliance roadmap:
- Continue to charge and pay GST on the foreman’s commission/remuneration for managing the chit, classified under the appropriate service heading and rate.
- Maintain separate accounting for delay interest/penal interest recovered under the chit agreement and ensure that it is recorded and treated as exempt interest under the relevant GST exemption entry.
- Draft and review chit agreements carefully to specify the interest under Section 21(1)(c) as compensatory for delayed instalments, without linking it to any additional facility or service.
- In assessments or audits, rely on the reasoning of both High Courts and the cited Supreme Court precedents to resist any attempt to classify such interest as consideration for “tolerating an act” or as part of a composite chit service.
From a policy standpoint, these decisions lower transaction costs in chit operations and remove interpretational overhang, thereby improving certainty for operators and subscribers alike. By ensuring that only the foreman’s true service income is taxed, while compensatory interest remains outside the GST net, the courts have preserved the cost-effectiveness that makes chit funds attractive to low- and middle-income participants.
Conclusion
The twin judgments of the Andhra Pradesh High Court in Usha Bala Chits and the Kerala High Court in KSFE represent a significant consolidation of legal thought on the GST treatment of chit funds. By rigorously applying the internal segmentation of the Chit Funds Act—foreman commission under Section 21(1)(b) and compensatory interest under Section 21(1)(c)—and dovetailing it with the GST exemption for interest, both courts have drawn a bright line between taxable service income and non-taxable time-value-of-money compensation.
This clarity is more than a technical victory for chit fund operators. It directly bolsters financial inclusion by protecting a traditional, community-based instrument that offers low-cost, collateral-free access to credit. Freed from the spectre of GST on delay interest, chit funds can continue to function as a bridge between informal savings habits and more formalized, regulated finance. In rural and semi-urban India, where banking penetration and formal credit access remain patchy, this jurisprudential shield allows chit funds to keep channelling small savings into productive uses, reinforcing both household resilience and local economic activity. In effect, the AP and Kerala High Courts have not only interpreted tax law—they have also quietly strengthened the architecture of inclusive finance.
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( the views expressed in this article are strictly personal and author of this article can be reached at caprudhvigst@gmail.com)
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